I’m often asked by clients what to do with shares of bankrupt, insolvent, or wound-up companies that are no longer traded on the stock market. For obvious reasons, taking a capital loss on the shares makes sense, especially if there are capital gains elsewhere that the loss can be applied against. But how do you go about disposing of shares that have no value and for which there is no market, so that you can actually register a capital loss?
Fortunately, there is a procedure for doing this, but you have to make sure you do it right. Here’s how it works. Section 50(1) of the Income Tax Act lets you make a deemed disposition of shares of companies that are insolvent or bankrupt and can no longer be traded. The rules set out three circumstances when this would apply.
1. The company has become legally bankrupt.
2. The company is insolvent and is subject to a winding up order.
3. The company has essentially ceased doing business and it is reasonable to expect that it will be wound up.
If you elect to claim a loss on your shares through section 50(1), you are in effect “deemed” to have disposed of the shares for zero value at year-end and then “deemed” to have bought them back for zero value right after year-end, producing an adjusted cost base (ACB) of zero (the superficial loss rule won’t apply in this case). You’ll then have a realized capital loss, even though you still end up owning the shares. The flip side is that if the company ever does come back to life, and the shares regain some value, you’ll have a capital gain if and when you sell them.
Note that there is no form for filing the election for worthless shares. Instead you have to include a letter with your tax return, indicating details of your shareholdings and that you elect to apply section 50(1) of the Income Tax Act to your shares. You must submit these documents even if you file electronically.
If you’re in doubt about how the election works or what you have to include by way of documentation, get the help of a qualified financial advisor or planner. If you run afoul of the rules on claiming losses, the CRA may levy a pretty hefty penalty, so make sure you follow the correct procedures.
© 2013 by Robyn K. Thompson. All rights reserved. Reproduction without permission prohibited.